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Appeals Court Discusses Rights of Holders of Unsold Shares

Most proprietary leases accord special rights to “holders of unsold shares,” including the right to sell or sublease units without obtaining board approval or paying fees. Disputes sometimes arise as to whether a shareholder is a holder of unsold shares, as occurred in Bellstell 7 Park Ave., LLC v. Seven Park Ave. Corp., 2021 N.Y. App. Div. LEXIS 508, 2021 N.Y. Slip Op. 00487 (1st Dep’t Jan. 28, 2021).

Paragraph 38 of the standard form of proprietary lease provides that a holder of unsold shares loses that status, as to a given unit in the cooperative, if the holder or a family member of the holder resides in the unit. But if the unit is owned by an entity such as a limited liability company, rather than an individual, who is a member of the holder’s “family”? In most proprietary leases, the lease does not explicitly discuss ownership by entities or the individuals in residence when an apartment is owned by an entity.

The cooperative in Bellstell asserted that shares corresponding to an apartment owned by an LLC were no longer unsold shares because an individual affiliated with the LLC had occupied the apartment. The cooperative argued that “‘any individual who is identified as a principal of the entity in the related regulatory filings with the Attorney General’ should be deemed ‘family’ for the purposes of paragraph 38.” The court disagreed, stating that “nothing in the proprietary lease suggests this interpretation,” and that in any event, the individual who occupied the apartment was not listed as a principal in the last amendment to the offering plan.

The court noted that at the time this proprietary lease was drafted in 1982, federal tax regulations precluded entities from owning cooperative shares. That rule was changed by the Tax Reform Act of 1986, but the proprietary lease was never amended to address this development. The court stated that “if the cooperative wanted to define who constituted a ‘family member’ of an entity, or to require an entity to designate a natural person for the purposes of paragraph 38 … the proprietary lease could be amended by a vote of 75% of the shares, and [the cooperative] is still free to put such a proposal to a vote of the shareholders.”

The appellate court also used this opportunity to clarify its prior decision in Pastena v. 61 W. 62 Owners Corp., 169 A.D.3d 600 (1st Dep’t 2019). That decision had created some uncertainty concerning the legal status of holders of unsold shares, by suggesting that the special rights accorded to holders of unsold shares under paragraph 38 might violate the Business Corporation Law. In Bellstell, the court clarifies that a cooperative may not accord special rights to original purchasers from holders of unsold shares, but that the holders of unsold shares themselves may continue to enjoy such rights. It appears that this clarification was likely intended to return the law governing unsold shares to its status prior to Pastena.